The Crime of 1873 – The Panic of 1873, pt. 1

Money

Allrik Birch,

Economic and monetary history is something practically nobody knows anything about, even people with an interest tend to have poor grasp of the subject, with some recessions more misunderstood than others. 1873 is, apart from the great depression one of those with the most misinformation surrounding it. Over the next couple of days, I’ll be blogging about what caused the panic, one of the worst recessions of the 19th century and one with huge political ramifications.

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The panic has it’s roots in bimetallism, where multiple metals are used as money, in this and most cases gold and silver, set at a fixed rate, in this case 16 ounces of silver to 1 ounce of gold. The changes in the price of silver as a result of European countries abandoning silver as a currency also had an effect. Whilst a bimetallic standard existed during the periods of earlier panics, it was not a central issue, unlike the Panic of 1873, where the move to demonetize silver changed the nature of monetary policy in the United States.

Normally under a bimetallic standard, only one of the two metals is in widespread use, due to Gresham’s Law, as one or other with always be overvalued compared to the other. Gresham’s Law, is the tendency for “bad” money to drive out the “good” as the overvalued currency (or metal) is used in normal trade, whilst the undervalued one is hoarded for later use or simply not taken to the mint and put to other uses (where its value is more appreciated).[1] At various points under a bimetallic standard, as values of the commodities change, the overvalued and undervalued metals can swap. This can cause various short term problems; such as there not being enough coins in active circulation (as people are reluctant to part with the undervalued currency), before enough new coins of the overvalued metal can be minted.

When various countries dropped the bimetallic standard system in the 1870s, the previous equalising system that this applied to the prices of gold and silver collapsed and the price of silver, in terms of gold, dropped to what were then record lows. This shows the power of the system in keeping two different metals in fairly close conjunction despite the potentially more divergent underlying values.[2] However, the affect of demonetizing one of the two metals used as currency would seem to have a major impact in shrinking the money supply. This then may lead to a crash as debts become much larger in reference to the specie. Debtors would stand to lose a great deal if the money supply were shrunk as it would take a larger proportion of the remaining money to pay off the debts.[3] The opposite is the case with inflationary policies, which encourage debt as some proportion of the real term payment is wiped out by the depreciation in the currency.

Silver had been decreasingly used as currency worldwide in the run up to the 1873 demonetization in the US. Notable nations in Europe such as Germany discontinuing to use silver as money. In 1871 the German government ceased to recognise silver as legal tender and stopped minting thaler coins; many other countries undertook similar policies at this time. This caused a depression in the price of silver worldwide, putting huge pressures on countries which used Bimetallism.[4] This lowered state of demand, coupled with new silver mines being discovered in the American West meant that the price sharply declined.[5] Continued use of silver as a currency could have led, eventually, to high inflation as more and more silver was mined, and fewer countries existed to export to for the purposes of minting (although other uses would still exist). A new coinage law in the US effectively demonetized silver (or what remained of it in the system), and thus reduced the money supply, forcing interest rates up. With the money supply no longer expanding and faced with liquidity problems, firms reliant on borrowing failed leading to the crash.

Over the next twenty years, the political atmosphere in the US changed, culminating in William Jennings Bryan running for (and coming close to winning) the US Presidency on the back of the “free silver” movement, aiming to remonetize silver in 1896 (he was also the Democratic nominee in 1900 and 1908 – losing on all three occasions). The term “crime of 1873” and the term came to common usage. The words “blunder” and “crime” were used regularly in congress in relation to the 1873 act.[6] The reduction of the money supply as a result of the 1873 Coinage Act then caused one of the largest economic crises in American history, the crime hit the economy hard and came close to transforming the US economic landscape as popular opinion drifted behind Bryant and the free silver movement.

 

Find out tomorrow why this analysis is entirely wrong.

Part 2: Innocent, your honour – The Panic of 1873, Part 2



[1]    Selgin, George, Good Money, pp. 11-2.

[2]    Walker, Francis Amasa, Money, pp. 266-7.

[3]    Ibid., p. 268.

[4]    Sumner, W. G., Walker F. A., and  Laughlin, J. L., Shall Silver be Demonetized? In the North American Review, p. 490.

[5]    Barnett, Paul, ‘The Crime of 1873 Re-Examined’, in Agricultural History, p. 179.

[6]    Barnett, Paul, ‘The Crime of 1873 Re-Examined’, in Agricultural History, p. 180.

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